The Middle East backdrop

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Market players discuss the development of family offices in the region and the way forward

Family offices are typically set up for investment management purposes. A recent EY report pointed out that the main reason behind this is the ability of family offices to provide governance and management structures that can deal with the complexities of a family's wealth transparency, helping the family avoid future conflicts.

"Family offices are often split into single family offices and multi-family offices. A single family office is an entity that is dedicated to the providing of services to a single family. Multi-family offices provide services to several families. In its simplest form the family office functions as the primary screening team. The office screens documents and processes before outsourcing to an expert. In general, these teams consist of low-paid, stretched, and badly motivated expat generalists from the Levant. The most successful family offices employ their own experts who are capable of providing full advisory and management services efficiently," explained Ifzal Akhtar, Solicitor at QualitySolicitors Parkinson Wright who has spent several years working with HNW Saudi Arabian families.

"Earlier development of family offices in the Middle East relates, to a large extent, to that of banking activities of Middle Eastern wealthy families. Until late 70s and early 80s, the banking and therefore, investment-centric family office activities for the UHNW segment were conducted mainly from London while the interface with the family would usually be in Dubai. Gradually, family offices and private banking activities gained prevalence in the Middle East especially for structuring and implementation of Shari'ah-compliant banking products/services and investment trusts," added Patricia Woo, of counsel at Squire Patton Boggs.

She pointed out that a key driver for the receptivity towards family offices is the increasingly stringent and regulated banking environment, resulting in families seeking an alternative, neutral platform in the form of family offices to serve their best interest. A large number of 'family offices' are not under a separate entity or entity which qualifies as single family office in the strictest sense.

Family office activities happen as part of the family business or through such service providers as accountants, lawyers and fiduciary firms. Institutionalised family offices, therefore, are just the tip of an iceberg in terms of the actual volume of 'family office' activities taking place in the region.

Furthermore, Middle East family offices are not just for Middle East families. UHNW families from other countries, such as Russia, also set up their family offices in the Middle East. De facto 'multi-family offices' on the other hand, exist in form of consultants/agencies, helping families to source investment opportunities. They however might not call themselves 'family office' as in the rest of the world.

Functionality

A family office enables the management of wealth and assets that may be jointly owned by several families under one roof, keeping operating costs low and centralise management. Sophisticated family offices that have clear structures and experts on the advisory board can be efficient in cost and profitability and extend their services to include financial planning, tax, philanthropic, strategic, as well as training and succession planning services.

"Most family offices are either investment-centric, which make money for the family, or service-centric, which take care of succession planning and other services. For traditional Middle Eastern families, the ratio of service-centric family offices to investment-centric family office has been observed to be around 2:1. The demand for service-centric family offices stems from the complexity of family composition, with multiple spouses and a relatively large number of children.
Distribution pattern and nuptial arrangements are in place, but family offices would be required for management and implementation," explained Woo.

Traditional Middle East family offices tend to aim for stable return and stick with familiar markets and take longer than their counterparts in the other parts of the world to make investment decisions unless partnering with trusted advisors with long-standing working relationships; while younger generations educated in the West are more likely to pursue alpha seeking investments. They are more ready to adopt the high risk/high return model.

Challenges

There are several issues affecting family offices in the region. According to Akhtar, they encompassed several things--increased scrutiny, trust fallout, economic pressures and volatility. Family offices were previously ignored when it came to public scrutiny.

"Confidentiality has been one of the top reasons for having a single family office. However, the level of protection is diminishing when disclosure requirements are stepped up. GCC family offices are affected like everyone else. The trend is to reassess the need for restructuring and adopting structures in mid-shore jurisdictions such as Hong Kong and Singapore to manage the extent of disclosure. For overseas multi-family offices operating in the Middle East, the customary practises, regulatory and enforcement environment could be challenging. They would want a higher level of certainty," highlighted Woo.

"The Panama papers affair have exposed some family offices and in turn some of the family offices were unable to cope with the intense scrutiny. My experience of some family offices in Saudi Arabia are that some of these are not equipped to effectively deal with scrutiny. Some of the offices lack the processes and ability to deal with scrutiny which consequently damages reputation and financial loss,"
said Akhtar.

Family offices are generally based on trust. As a result it is not uncommon for family members to operate successful offices without any agreement in place between the members. The risk involved in the absence of contracts may result in disputes between family members which may become complex and protracted, carrying cost consequences and reputational risks.

Furthermore, external pressures contributing to a deteriorating GCC economy will affect how family offices operate. Adverse effects such as cutting advisory team members may affect the efficiency of the family offices. These firms will also need a nimble investment footprint to ensure capital and investment strategy is not severely affected by economic headwinds. Another challenge for family offices is also the protection of its investment portfolio against heightened volatility on equity markets.

Prospects

"Traditionally, UK, US and Switzerland are popular locations for investment by family offices--private investments are usually more popular. MENA family offices have shown keen interest in such sectors as hospitality, commercial real estate, manufacturing, health care and education," explained Woo.

Following Brexit, the weaker British pound is seen as an opportunity for family offices in dollar pegged economies like the GCC. A weak pound sterling means greater buying power for GCC investors.

According Akhtar, there is evidence that family offices are already taking advantage of the Brexit situation with agents actively seeking deals for GCC family offices. In a span of four days following the Brexit result, UK assets became 12 more affordable. Testament to this is the sale of the Grosvenor Hotel by Sahara to potential buyers from Qatar and Saudi Arabia.

Akhtar said, "I predict that upon the triggering of the Article 50 of the Lisbon Treaty the UK economy will experience further turbulence with a weakened pound and therefore creating further opportunities. Family offices that are actively seeking to invest in the UK must begin their investment planning now.
The election of Donald Trump in the USA may also create opportunities in the USA. His election may cause economic turbulence and some investors withdrawing investment from the USA. It will be interesting to see how the dollar reacts to news of a Trump election."

Asia on the other hand, is a less popular destination according to Woo. However, financial centres like Hong Kong can offer financial and fiduciary services that are at par in terms of service level with London, Paris and Geneva, which are popular among Middle East family offices.

"Most Asian investment-centric family offices whose strategy is not capital preservation aim to achieve double-digit post-tax IRR and some that adopt corporate debt investment strategies are targeting 25 to 35 per cent. This could provide inspiration to MENA family offices. Asian market is where high growth is likely. Stable return is also offered in markets that are slightly more mature and through investing in investment-grade fixed income instruments," said Woo.

Looking ahead

"The concept of putting everything into a family office box may be a relatively new concept to the Middle East but it is growing in popularity. For a family office to be efficient in its investment stratagem and succession planning its structure must be robust. This is important for the stability of the family office. A fragile structure based only upon family loyalty threatens to destroy everything that has been achieved by the founders," said Akhtar.

He further recommends family office members is to seek legal, financial, accounting advice in efficient structuring of the family office and the strategic targeting of investments.

"Established investment-centric family offices with many years of history investing in traditional assets and markets would have a higher inclination in expanding to other areas, but the newer ones are still focused in terms of asset classes and geographic location such as local real estate and infrastructure.

It is anticipated that when the newer ones mature, they would also diversify," added Woo.

With the Western educated younger generation taking over or driving the family office set up, diversification and alpha seeking activities would surge. Therefore, comprehensive, value-centric model of family offices, which delivers functions of both investment-centric and service-centric family offices is expected to gain popularity in the years to come.